Toward a Political Institutionalist Economics: Kapp's Social Costs, Lowe's Instrumental Analysis, and the European Institutionalist Approach to Environmental Policy
Berger, Sebastian, Forstater, Mathew, Journal of Economic Issues
This paper proposes that K. William Kapp's "Theory of Social Costs" and Adolph Lowe's "Instrumental Analysis" are complementary analytical frameworks that contribute to the formation of a unique and practical approach to institutionalist economics. In particular, we employ a Kapp-Lowe synthesis to address questions of environmental policy, about which both scholars were deeply concerned. The result is what may be called a distinctively European "Political Institutionalism" that transcends mainstream arguments for market solutions, and makes environmental policy an effective instrument to reduce social costs. The paper concludes with a proposal for further research investigating the potential of this integrated Kapp-Lowe approach.
Kapp's Theory of Social Costs
In his significantly prescient work, The Social Costs of Private Enterprise (1950), Kapp defines social costs as that share of the total costs of production that the individual enterprise is not held accountable for, and which it shifts to third parties, society as a whole, or future generations in the form of harmful consequences and damages (Kapp  1977, 13).
Whenever social costs are shifted onto economically and politically weaker sections of society without compensation, a redistribution of the costs of production, hence real income is involved. (Kapp 1972b, 16)
Kapp's theory shows that social costs are to a large extent a non-market phenomenon because the relations between production, the environment, and the individual, are not voluntary market relations, but involuntary one-sided relationships forced on the individual. The individual cannot escape them and they happen "behind his back." Environmental pollution is synergetic with pollutants mixing in the ecosystem in a way that makes it impossible to determine responsibility. Moreover, pollution is cumulative; once thresholds are passed, the effects are out of proportion relative to their cause. Social costs originate because firms are not held responsible for the full cost of production. The profitability of many investments would cease altogether if producers had to pay the full costs. Because of asymmetric power relations, the bearers of social costs are usually too weak to defend themselves against this cost shifting.
According to Kapp, social costs reflect above all a misallocation of resources resulting from an institutionalized economic calculus that induces economic units to take inadequate account of harmful environmental effects of their investment (including location) and production decisions. This purely formal rationality in decision-making is based on the information provided by market prices together with the principle of profit maximization and cost minimization by means of cost shifting. In this instituted process, investment decisions depend on net present value, which gives an incentive to shift costs to the future to diminish their discounted present value. Kapp shows how this institutionalized economic monetary calculus leads to a path of economic growth and profit maximization via premature resource depletion rather than environmental goals. The self-reinforcing nature of economic institutions leads to cumulative, ever increasing social costs.
They [social costs] are damages or diseconomies sustained by the economy in general, which under different institutional conditions could be avoided. [...] if these costs were inevitable under any kind of institutional arrangement they would not really present a special theoretical problem. [...] to reveal their origin, the study of social costs must always be an institutional analysis. Such an analysis raises inevitably the question of institutional reform and policy. (Kapp 1963, 186)
Linking Kapp's Approach with Lowe's Instrumental Analysis
We now take a closer look at Lowe's Instrumental Analysis in order to point out links to Kapp. …